State of Economy Report Gives a Positive Update on Scotland's Oil and Gas Sector

Tom Crisp Editor 01603 604421 [email protected]

Monday 06/11 – BEIS seeks views on bringing forward compliance deadlines for UK operators in the EU Emissions Trading System to ENERGY PERSPECTIVE 02 avert issues related to Brexit. Labour Party Leader Jeremy Corbyn highlights the benefits that nationalising the energy industry will have Ofgem cooks up different recipe on network charges for businesses in a speech to the CBI. The Energy Technologies Institute Heat Infrastructure Development project sets out eight route POLICY 05 maps that could see the capital costs of heat networks fall by 40%.

BEIS calls for evidence on Helm, Tuesday 07/11 – BEIS issues a call for evidence on the findings of as debate continues Dieter Helm’s Cost of Energy review. The latest switching data from BEIS consults on building a Energy UK shows over 600,000 customers switched electricity market for energy efficiency Onshore wind ban could add supplier in October, taking the total so far this year to 4.5mn. The £1bn to energy bills: ECIU Supreme Court rejects RSPB Scotland’s appeal against the Neart na Gaoithe offshore windfarm. ScottishPower’s Q3 2017 results show a REGULATION 10 fall in customer numbers and a decline in the generation businesses’ Trial of CMA remedy shows profits. increased engagement Wednesday 08/11 – SSE and innogy confirm they have entered into New forecast of 2018-19 transmission charges published an agreement to merge part of their businesses to create a new independent energy supply company. In a speech to the Innovate UK INDUSTRY STRUCTURE 14 Conference, Climate Change Minister Claire Perry announces £16mn of funding to support smart energy systems innovation. SSE’s interim SSE and npower confirm plans for retail merger financial results for the six months to 30 September show a 13.9% drop National Grid to simplify in its pre-tax adjusted profit. In its nine-month interim financial report, balancing services E.ON stated an adjusted net income of approximately €965mn, more Annualised electricity switching approaches 20% than 50% above last year’s figure, while UK sales were €5,040mn over the period. NUTWOOD 18 Thursday 09/11 – BEIS research reveals households in fuel poverty Who are the winners and losers are much less likely to have switched supplier, and are less from SSE/npower merger? knowledgeable about the switching process. The Scottish government – Peter Atherton announces that it is seeking views on the design of a new long-term strategy to tackle fuel poverty. As it releases half year results National MARKETS 20 Grid defends itself against calls for some, or all, of its roles to be re- nationalised, highlighting falls in network costs. Friday 10/11 – techUK delivers recommendations for a technology-led decarbonisation. The Scottish government’s State of Economy report gives a positive update on Scotland's oil and gas sector. Research by ResPublica makes the case for investing in new nuclear generation in the UK.

Ofgem issued its latest becoming “full”, as generators below 100MW have thinking on 6 November sought the advantages of embedded benefits that on how it will progress connection at distribution level brings. two major workstreams Residual network charges seek to recover the Josephine Lord on reforms to remaining allowed revenue of the network Regulatory consultant transmission and 01603 604400 operators not recovered under the forward distribution charging as [email protected] charges. They are not meant to drive any particular part of its Targeted behaviours but, as currently formulated, the Charging Review. One regulator is concerned that they are causing stream is considering Josephine Lord market distortions. Regulatory Consultant network access 01603 604400 arrangements and Measuring the dry ingredients [email protected] forward looking charges The areas that Ofgem will look at on forward under the newly formed charges is shown in Figure 1. Charging Futures Forum (CFF). The other is examining residual charges under a Significant Figure 1: Access rights and forward-looking charges Code Review (SCR) process. In this week’s Energy Perspective we look in detail at Ofgem’s thinking, and its potential implications. Hors d’oeuvres The case for the reforms being considered is to ensure that the arrangements for network charging are fit for purpose as the energy system undergoes a period of rapid change. While the direction of this is not entirely clear, the aim is to reduce distortions where they exist now, and to Source: Ofgem ensure as far as possible that further distortions do The nature of access rights at transmission level, not emerge in the future. Importantly, the reviews has been subject to extensive review over the last are looking across both transmission and few years, notably with the Transmission Access distribution charging, where the approaches on Review in 2008, which led to (among other things) several key elements are different. the connect and manage regime and was aimed at At this stage Ofgem is setting one or two clear enabling greater and quicker connection of directions and a range of options for how to renewable generation. Ofgem’s focus in the proceed. What is clear from the timetable, current review is rather wider, covering a range of however, is that it wants to move quickly – with elements and including access arrangements for initial proposals by next summer. But it is also the distribution networks. signalling – for reasons of pragmatism and also as Ofgem is concerned that access rights can be ill- a caution to the market – that these will not defined, with a poorly defined choice of different necessarily be the end solution: further revisions access arrangements and limited choice to meet may be necessary over time as technologies, users’ needs. There is also limited information to business models and policies evolve. help identify where new capacity is needed. House speciality Access rights are generally allocated on a first- come, first-served basis, with rights not readily Forward looking charges seek to provide signals transferable or tradeable. So the review will look at to users about how their behaviours can increase how access products could enable rights over or reduce future costs on the network. An area different time periods. It will look at the firmness of closely bound up with this is the network access rights and potential compensation, how capacity is arrangements – including what rights access allocated and how it could be reallocated. confers and how they can and should be allocated. This issue is particularly pressing at distribution The review of forward looking charges is also wide network level, where some networks are and reflects a number of concerns with the current

connection charging and use of system This bold proposition has the advantage from a arrangements. Ofgem is concerned that existing practical point of view of being relatively charging structures may not adequately reflect straightforward, creating consistency and avoiding incremental costs and benefits, with different significant change, as the majority of residual charging approaches to how costs are allocated charges are already recovered from suppliers. As across different charges. such, it also avoids the need to set a new generation/demand split if the charges are shared. The regulator identifies a range of changes that It would also move the centre of gravity of GB style could be considered for individual charges, notably charging closer to typical European practice. how the structure of transmission network use of system (TNUoS) charges may be levied, potentially Ofgem is concerned that the current framework for reducing volumetric (per kWh) charges and can result in inefficient use of the network, as they increases the proportion based on a user’s drive actions from some network users that can capacity (per kW). It also wants to look at the hurt other network users and consumers in granularity of charges, both on a temporal and general, and those that are picking up the tab tend locational basis, which it thinks could be to include residential and small business particularly beneficial within the distribution customers and vulnerable customers. It also charging methodologies. identifies a series of inconsistencies in the way that residual charges are currently levied. More fundamentally, it also wants to consider how charging arrangements could be made more The regulator sees a key disadvantage of placing consistent across the transmission and distribution charges on generation: it could distort investment systems, which can accommodate how use of the and dispatch decisions, though it previously saw network has changed with the growth of this as having merit. It is also concerned that it distributed generation and make it flexible to could disadvantage GB generators against future change. One option may be to harmonise interconnected generators that do not pay GB tariff setting approaches for use of system charges, charges (and demand charges are the more which the regulator believes could result in more prevalent approach in Europe, for transmission “realistic” approaches being used. Although there charges at least). The approach avoids the may be practical limits to how far harmonisation potential to disadvantage grid-connected can be taken, the increasing interactions between generation compared to on-site generation, where the two systems mean that this is an important there is potentially more difficulty in recovering avenue to explore for rationalisation. charges. It also avoids challenges in implementing charge recovery with a level playing-field for users In this respect, an element of charging that Ofgem connected at different voltage levels raises on a number of occasions within the two papers is the future of balancing services use of While residual costs will flow through to consumers system (BSUoS) charges. It suggests that the in the end, Ofgem does countenance there may be constraint element of BSUoS could be recovered potential short-term consumer benefits of charging under TNUoS. This is because the drivers of these a proportion of residual charges to generation — if costs should be the same as those driving network generators are unable to pass the full fixed charge investment, so combining TNUoS and those onto consumers — but as, ultimately, consumers elements of BSUoS in one charge could allow will pay all system costs, and charging suppliers is synergies and ensure there is no double charging. a more transparent approach. So while not presenting any proposals at this stage Digestif on access arrangements or forward-looking Ofgem has not determined at this stage what the charges, Ofgem has correctly identified key issues. appropriate mechanism for cost recovery should As it points out itself, however, these are complex be, although is has identified four options to take areas, and the concern must be that the timetable forward, as shown in Figure 2. (see below) looks tight for getting to the bottom of some of the more fundamental changes mooted It is telling that, at this stage, Ofgem considers and embarking on such a fundamental redesign. there would be advantages to a hybrid approach that would combine two or more options. This Leftovers would provide flexibility on the distributional In its current thinking on residual charges Ofgem impacts and also allow adjustment over time as has given one firm steer, and that is that the technology changes how the electricity networks charges should all be paid by suppliers. are used. In addition to combining approaches, a

further dimension of flexibility is for a tiered agreed assessment criteria; and by April/May they approach, whereby the first blocks of use or are to produce a report outlining their conclusions. capacity are charged at a different rate. For the SCR on residual charges, the next stages Figure 2: Charging mechanisms for further assessment of the process are shown in Figure 3. It appears that the amount of formal stakeholder participation Option Description in the policy process is limited. There are two rounds of stakeholder engagement prior to the Fixed charge This could be based on user profile consultation next summer, the first being two per user classes. events scheduled in November to discuss Ofgem’s current thinking. Ofgem has chosen to adopt a Ex ante This would be based on a network SCR process that will see it issue a direction to one capacity user’s agreed or connected demand capacity. Figure 3: Ofgem-led policy development phase of SCR charge

Ex post Applies a measure of peak system capacity use to individual system users demand charge

Gross All a user’s consumption is consumption measured, including consumption volumetric of electricity generated on site – charge for business consumers only Just desserts The assessment will be carried out against the or more licensees to raise a modification principles Ofgem has defined for the SCR of proposal(s) that then follow normal code reducing distortions, fairness, and proportionality governance. These modifications can be at a high as well as practical considerations. There will also level or set out detailed changes, thus leaving be quantitative assessment of options that will look open at this stage how much scope there may be at how the charges and incentives faced by for industry to further develop the proposed individual users are affected by the collection changes. Ofgem expects to issue a decision and mechanism for residual charges and what whole final impact assessment in Q3 2018. system changes can be expected. It will also look at the costs of change. Cordon bleu There are, as Ofgem recognises, likely to be trade- The overall project to address access and charging offs between the various factors that the options arrangements, while necessary and timely, is also will be assessed against. It also wants to very ambitious in its scope and timetable. Industry understand how the incentives under different stakeholders will need an early understanding of approaches would vary under hybrid approaches, proposed changes, and how they interact with as these could reduce any undue focus on one other workstreams underway, including the type of residual charge avoidance behaviour. development of the RIIO-2 Maitre d’hotel price controls For the access rights and forward-looking charges and the stream of work, Ofgem is setting up two task electricity forces under the CFF, one for each area, although settlement to ensure coordination they will have a common reform SCR. chair and will be expected to produce common This is a meal documents. The task forces have been given an of many extremely demanding timescale to meet: they are courses and to produce a document identifying initial options there is a agreed for further assessment by this great deal to December/January; by February/March they are to digest. have assessed these initial options based on

Tom Crisp, Editor, [email protected]

The government has issued a call for evidence the market deliver it. However, much of the review on Dieter Helm’s Cost of Energy Review. The constituted “blue sky thinking”. Singling out carbon same day at a meeting of the All Party pricing, Slade said it would be difficult to Parliamentary Group on Energy Costs senior implement in practical terms. energy industry stakeholders shared their views. E.ON UK’s Brian Tilley shared many of Slade’s BEIS issued its call for evidence asking for the views on the review. He said there was a need to views of businesses, consumer groups, academics look beyond electricity to the other sectors of the and other stakeholders on the review’s findings. energy industry where progress on The consultation seeks views on the longer-term decarbonisation has been slower, particularly heat challenges for electricity transmission and and transport. Tilley said there was “nothing distribution, electricity generation and supply, and fundamentally wrong” with the Electricity Market any other matters the government should consider Reform (EMR) framework. While early renewables to cut the cost of energy. contracts now look costly for customers, there have been recent successes, such as the latest The consultation divides Helm’s recommendations Contracts for Difference auction round. into three broad categories: electricity generation, supply and networks. Tilley said that, while an economy-wide carbon price made sense on an intellectual level, in On generation BEIS asks, within the context of the practical terms, as has been demonstrated in review’s findings, what are the longer-term recent years, no company involved in the sector challenges for electricity generation and what would have the confidence to invest solely on the matters government should take into account basis of a carbon price, especially given recent when setting the policy framework. policy volatility. On the domestic market and On transmission and distribution, questions include growing levels of engagement, he cited evidence what matters should the government take into that in the last three quarters E.ON UK has account in considering the framework for network successfully moved 10% of its customers on SVTs regulation, and its associated institutional onto a fixed deal. framework? Both panellists agreed that looking at ways to cut On supply, government again asks what are the costs and introduce competition in the networks longer-term challenges for supply, and what had merit, especially as suppliers just passed matters should be taken into account. these costs through. While there was confusion over the exact purpose and functioning of a legacy Finally, BEIS asks more broadly if there are any bank for existing renewables contracts, there was other matters that the government should consider support for greater transparency on the make-up to reduce the cost of energy in the longer term. of energy bills. Both also re-iterated that policy Views are invited by 5 January 2018. costs should be funded through general taxation The principal speakers at the parliamentary as a more equitable way of meeting these costs. meeting were Lawrence Slade, Chief Executive of Finally, both panellists expressed concern about Energy UK, and Brian Tilley, Head of Energy Policy the nature of intervention planned in the domestic at E.ON UK. market, and questioned when detriment to In opening remarks, Slade said there were customers would be deemed to be resolved. elements of Helm’s review he sympathised with – The call for evidence is very much as particularly the conclusion that intervention expected. following intervention had led to a very complex policy landscape. Slade also welcomed The event gave further credence to the recognition of the need for a route to market for conclusion that, whilst certain parts of the lower-cost renewables, particularly onshore wind. review may be cherry-picked, it is unlikely he added there was a “lot to be said” for the recommendations will be taken up wholesale. concept of setting a framework and then letting BEIS APPG on Energy Costs

James Cunningham, Writer, [email protected]

On 12 October as part of the Clean Growth new digitally-led information and advice service Strategy supporting documentation BEIS will be developed to give customers tailored launched a consultation on Building a Market for support on the types of improvements they could Energy Efficiency. make to their homes. This would replace the existing Energy Savings Advice Service. In the consultation document, BEIS noted that affordable energy and clean growth are central On the supply-side, BEIS asked for views on objectives of the UK’s Industrial Strategy, and that creating the conditions to allow the groups that improving energy efficiency is a key aspect of this. gain a benefit from energy efficiency to become key players in the market. It pointed out that The paper: set out a range of barriers to Distribution Network Operators (DNOs) and investment in energy efficiency, on both the mortgage lenders already have a stake in energy demand and supply side; invited views on the efficiency. Therefore, the consultation considered government’s role in overcoming these barriers ideas for how incentives could be further aligned and stimulating the market through more direct to unlock this value. These included incentivising interventions; and assessed a range of potential DNOs to deliver energy savings, and agreeing solutions. voluntary targets for mortgage lenders to BEIS said the proposals set out in the document encourage the development of innovative green had been influenced by lessons learned from mortgage products. previous policies. Its ideas were therefore based The next area BEIS considered was enabling on the principles that policies must be coherent, innovative energy efficiency products and cost effective, align with consumer needs and services. The government has already launched a motivations. They should also unlock the full value £10mn thermal efficiency innovation challenge of energy efficiency, exploit “what works” in the fund. However, the consultation asked for views current home improvement market and support on other ways of ensuring regulation and innovation. government programmes encourage innovation in The call for evidence invited views on actions in energy efficiency products, services and business seven areas across supply and demand. On the models. demand-side, BEIS first called for views on The consultation also looked at ways of improving developing new methods for financing energy data to open up the market for investment. It was efficiency. It argued that different financing noted that the roll-out of smart meters provides the products tailored to the needs of different opportunity of improved data on the thermal customer groups could help to reduce the initial performance of buildings, and the impacts of investment required for energy efficiency individual efficiency measures. This could provide measures. It added that, if delivered through more assurance to homeowners and investors on financial institutions with a retail presence, this the potential savings delivered by their investment. could be done in a low-cost way that fits with homeowners’ existing methods of accessing Finally, BEIS asked for views on improving supply finance. chain capability. It was noted that in some instances the local supply chain may not have the The second demand-side proposal was for price skills to deliver complex retrofit schemes. The signals to be tied to the energy efficiency of department therefore considered ideas for properties. The department said that stakeholders providing further support to the supply chain and have argued that price signals could make more using the new advice service to support installers. energy efficient properties more financially attractive to home-buyers. It would also provide a Responses are welcomed until 9 January 2018. continuous prompt to consumers to encourage them to invest in improved energy efficiency. We welcome the increased emphasis on energy efficiency in the strategy. We now The final proposal to increase the demand for need to backfill the detailed polices, and this energy efficiency was to improve the awareness of consultation is a good start. energy efficiency products and technologies, their benefits and advice to consumers. BEIS said that a BEIS

Tilly Pembroke, Analyst, [email protected]

Research by the Energy and Climate Intelligence Figure 1: Generation cost comparisons Unit (ECIU) has suggested that outdated policy is preventing the development of onshore wind in GB, leading to adverse impacts on both consumer bills and climate change goals. Released on 25 October, the ECIU’s Blown Away report called for an end to the contradiction that onshore wind is the cheapest form of electricity generation, but is effectively blocked from being developed beyond the current pipeline. The deployment of new onshore windfarms was effectively banned after the 2015 General Election Conservative Party manifesto pledged no new high-carbon power sources, or rising public subsidies for the technology. awareness of the low costs associated with However, the research revealed that cumulatively, onshore wind. this “onshore wind ban” could cost up to £1bn over To offer a pathway to deployment for onshore four to five years, depending on what technology wind, the ECIU recommended creating two parallel is deployed instead. mechanisms for low-carbon power. Currently onshore wind power is the cheapest First the current regime would continue, delivering form of electricity generation to develop in the UK nuclear, biomass, ever-cheaper offshore wind and, (see Figure 1). The analysis suggested that the potentially, other technologies such as tidal and electricity produced from 1GW of new onshore gas with carbon capture and storage. For the wind capacity would cost £30mn/ year less than if foreseeable future, these are likely to include an it came from offshore wind, and £100mn/ year less “element of subsidy”. than from new nuclear or biomass plant. The second mechanism would award fixed-price These figures are seen by the ECIU as “almost contracts to onshore wind – but only for projects certainly an under estimate” as they are based on judged to need no net subsidy or to raise current turbine technology. The think tank significant landscape or wildlife issues, and where highlighted that larger turbine sizes and there is community support. Large-scale solar efficiencies across the supply chain have already energy projects could also bid into such a led to some new onshore wind projects being mechanism. developed on a subsidy-free basis. Richard Black, Director of the ECIU, said: “For a As well as now being lower in cost, the ECIU also government committed to making energy cheaper, highlighted how since the 2015 election there has this risks not only locking people into higher bills, been a considerable increase in public acceptance but also runs contrary to its aim of having the of onshore wind among conservative voters. lowest energy costs in Europe. These blustery isles Surveys show that far fewer people would object have no shortage of wind and while other to living near a windfarm (24%) than a small nuclear European nations are going large on onshore wind reactor (62%) or a fracking site (61%). Most recent the UK is starting to fall behind”. results reveal that nearly three in four respondents (73%) support onshore wind development. with The evidence for the need for a route to only 16% of respondents rejecting large-scale market for established renewables continues renewable energy development in their area. to mount, and this report adds to it. There is a huge gap in policy, and we wonder when it will The report suggests that this change in opinion be addressed. could be attributed to increased acceptance of a more common technology, a greater ECIU understanding of the need to move away from

On 6 November the Business, Energy and Industrial Strategy Committee published the government’s response to the Committee’s Leaving the EU: Negotiation Priorities for Energy and Climate Change Policy report. In its response the government said it was considering all possible options for the UK to continue operating in the EU Emissions Trading System (ETS), or otherwise, following Brexit. It added that, regardless of whether the UK remains in the EU ETS, its future approach will deliver at least the same level of decarbonisation. The House of Commons published a number of amendments to the Automated and Electric Vehicles Bill on 7 November. New topics of the amendments included the need for the Secretary of State to consult with devolved nations, including on: the production of a report setting out a UK-wide strategy for electric charging points, and a report on the impact of energy consumption due to increased numbers of electric vehicles. BEIS ministers took oral questions on 7 November. Shadow Business and Energy Secretary Rebecca Long Bailey asked Greg Clark to confirm whether the government’s proposed price cap will be in place by Winter 2018. Long-Bailey also asked whether recent media reports suggesting that the government had “no intention of introducing price cap legislation” were true. Clark responded that there is “every intention of introducing a price cap” and that the government will look to introduce the Bill to parliament once pre- legislative scrutiny has finished. John Penrose (Conservative, Weston-super-Mare) questioned whether the government’s proposals to implement an absolute price cap would simply “repeat the same mistakes” identified by the Cost of Energy Review. He suggested that they could instead “be replaced by something more closely linked to the few competitive energy prices that already exist”. In a written answer issued on 8 November, Claire Perry said that the government plans to consult in early 2018 on the next phase of the Energy Company Obligation from 2018 to 202. Parliament entered recess from 8-13 November. Links underlined above

Labour Party Leader Jeremy Corbyn highlighted the benefits that nationalising the energy industry will have for businesses in a speech to the Confederation of British Industry (CBI) on Monday 6 November. Corbyn argued that the UK’s energy transition is currently being held back because the required investments to improve the energy grid are not being made. Nationalisation would, he said, ensure investment “happens in a way that gives best value for money for the public, and in a way that better meets user needs.” Corbyn concluded: “This isn’t a throwback to a bygone era; it’s entirely in step with what is happening in the rest of the world. Some of the world’s biggest economies – Germany, France, even the United States are deciding that key sectors such as energy and water are better off in public ownership.” Labour

Wave 23 of the department’s Energy and Climate Change Public Tracker has revealed that concerns over paying for energy bills have remained at their lowest since the tracker began in March 2012. Released on 2 November, the tracker showed two in 10 (20%) respondents were either very or fairly worried about paying their energy bills, down from a high of half (48%) being concerned in Wave 7 in September 2013. The level of worry was particularly high amongst those with household incomes of up to £15,999 (26%) and social renters (24%). Consumers’ level of trust in energy suppliers was broadly the same as previous waves of the tracker. Respondents were most likely to trust their supplier to provide an accurate bill (72%) and to provide a breakdown of the components of their bill (72%). They were less likely to trust suppliers to provide accurate

and impartial advice on energy efficiency measures (59%), give customers a fair deal (58%), inform customers about the best tariff available (55%), and to make homes more energy efficient if asked to (54%). Over eight in 10 (82%) respondents expressed support for the use of renewable energy, a slight year-on-year increase from 79%. Opposition to renewables remained very low at 3%, with only 1% strongly opposed. BEIS

The CEO of Oil and Gas UK has said the announcement of two major North Sea deals suggests an increase in confidence in the future of the UK oil and gas industry. The comments came from Deirdre Michie following the news of Chrysaor’s $3.8bn acquisition of assets from Shell representing almost 7% of total UK North Sea oil and gas production, and INEOS’ $250mn acquisition of BP’s stake in the Forties Pipeline System. The deals are of strategic importance to maximising the recovery of the UK’s remaining hydrocarbon resource and the new business opportunities they will open up for the oil and gas supply chain. The Forties Pipeline is a critical UKCS asset and its integration with Ineos’ assets at Grangemouth is an efficient solution that will help unlock new investment opportunities upstream. In addition, Chrysaor deal makes it the new top independent oil and gas company and one of the UK’s largest producers. The company is intent on exploring and investing in its new portfolio, which underlines confidence in the potential this basin still holds. Up to 20bn barrels of oil and gas are estimated to remain for recovery, an essential primary resource to meet the country’s energy needs, secure jobs and generate wealth for the economy Michie said: “We need more deals like these. In the past they have helped extend the life of the basin, acting as catalysts for fresh investment, reinvigorating activity in both new and existing portfolios.” Oil and Gas UK

Analysis by EY has found business interruption due to storms, catastrophic events and cyber-attacks present the biggest threat to power and utilities companies. Published on 1 November, its survey concluded that eight in 10 (80%) of respondents indicated that business interruption will become more or much more important in the future, as the frequency and severity of these events accelerates. As the sector transitions to a new, digital energy world, the top strategic risks are expected to become more important. The rise of distributed energy resources (DER) is the number one strategic risk increasing pressure on customer relationships, 55% of respondents anticipating that this risk will become more or much more important in a new energy world. In addition, regulatory or rate changes impacting cost recovery of assets ranks as the number one financial risk and the second-highest overall risk. These findings highlighted the need for improved businesses resilience and implementation of effective response strategies to enable the future utility. Matt Chambers, EY Global Power & Utilities Risk & Cybersecurity Leader, commented: “Utilities need to ask themselves whether their operating model is agile enough to react to unexpected events as they unfold, and whether they have the right resiliency to recover.” EY

Our latest Chart of the Week explores new energy supplier business models. Last week’s blogs were on Unidentified gas volatility costing shippers £40mn a month and an initial view on the proposed tie up between SSE and npower in supply (a fuller view will be our Energy Perspective next issue).

Rowan Hazell, Regulatory Analyst, [email protected]

Results from a small-scale trial into the saw 7% of participants switch internally, compared disengaged customer database were published to 5% switching externally. Ofgem noted that this on 1 November, providing insight into the may reflect the customers’ desire to avoid a success of a major Competition and Markets perceived hassle in changing supplier, or their Authority (CMA) energy market remedy. ability to use the information received as leverage to gain a cheaper tariff. In 2016, the CMA’s Energy Market Investigation found that up to 55% of domestic customers had The average savings for all fuels made by each been on a standard variable tariff (SVT) for at least customer were relatively similar between groups. three years, amounting to around 10mn customers. The CMA group saw savings of £131, with the best To address this, the CMA’s disengaged customer offer letter group making an average saving of database order recommended a remedy requiring £128. The control group saw the highest level of Ofgem to maintain a database of these saving, at £135. disengaged customers, with access provided to Interviews conducted by Ofgem with participants rival suppliers to access the data for marketing provided further insight into the trial. For the CMA purposes to prompt these customers to engage. group, most did not express surprise that they In order to trial the remedy, the details of 2,400 were on an expensive tariff, but many considered customers on SVTs who had not switched for more the options provided. Very few participants than three years were provided to Ofgem by two switched to one of the suppliers they received large energy suppliers. The customers were information from, and rather were prompted to randomly split into three groups, the first who look at price comparison websites for a better deal would receive the CMA proposal of up to six or to contact their own supplier. On the whole supplier marketing letters; the second, a “best customers were more positive about Ofgem’s offer letter” from Ofgem detailing three “best better offer letter approach than the CMA’s. offers” in the market; and the third group were The interviews highlighted barriers to switching, provided with no communications to act as the such as the participants not recognising the control group. suppliers; not wanting to be drawn into “wheeling The 1,600 customers in the groups other than the [and] dealing”, and not having time or the internet control group were sent a letter inviting them to access to investigate further. There were also opt out of being sent communications about deals. negative reactions to the receipt of multiple Only 45 customers chose this option. marketing letters, with some finding this very intrusive. For the customers in the CMA group, the host supplier shared the details of each customer with Ofgem noted that, although the results are three other suppliers, who were each allowed to encouraging, it does not have the confidence to send up to two marketing letters over a period of a make generalisations from the results, and that month. 74% of customers in the CMA group external factors such as supplier price changes received six letters. It was found that absolute and media coverage could have had an influence. switching for this group was 13.4%. The regulator will use the results as it further explores steps to increase engagement as part of Customers in the best offer group received the its “Prompts to Engage” project. single “best offer letter” from Ofgem detailing three cheaper alternatives to the customers The trial resulted in some increase in switching current tariff saw absolute switching rates of 12.1%. rates. But it revealed some issues with the In comparison, the control group, which received database remedy, especially around no letters saw absolute switching rates of 6.8%. perceptions of intrusiveness. Additionally, the For all parts of the trial, customers were more likely proposed CMA solution may run into issues to switch to a cheaper tariff from their existing with the new requirements of the General Data supplier, rather than switch suppliers outright. For Protection Regulation. the CMA group, 8% switched internally, with 5% switching externally. The best offer letter group Ofgem

Steven Britton, Senior Regulatory Analyst, [email protected]

National Grid has released the first quarterly Lastly, the non-HH demand tariff ranges from forecast of transmission network use of system 3.38p/kWh in Southern Scotland to 7.81p/kWh in charges that takes into account the changes the South West, with an average of 6.23p/kWh. resulting from CMP264/265 on 31 October. The This is an average reduction of 0.77p/kWh forecast sees total transmission owner (TO) compared to June, which has again been driven by revenue fall by £158.5mn compared to the June CMP264/265. The highest impact has been in forecast, with £2,661.3mn to be recovered. Northern Scotland, where separating the high embedded generation exports from gross HH The £158.5mn reduction includes a reduction of demand has reduced the tariff there by 4.50p/kWh £26mn of revenue in respect of the Scottish transmission owners; a reduction of £61mn in Generation tariffs will recover £430.1mn in forecast Offshore Transmission Owner revenue; accordance with the requirements of the EU and a reduction of £71.9mn in National Grid’s regulation that limits recovery to €2.50/MWh. This revenue, which reflects the K correction factor for is the same as forecast in June, and means that over-recovery of revenue of £55mn this year and a the generation to demand split is now forecast to revised profile of spending and allowances. be 16.2:83.8. The charging base is now 5.3GW larger, however, meaning that the tariff has fallen The gross demand HH tariff ranges from to £0.44/kW, and there is 3.6GW of additional £25.07/kW in Southern Scotland to £54.59/kW in contracted transmission-connected generation in London, averaging £46.20/kW (see Figure 1). This the Midlands. This has led to higher locational is an average decrease of £6.57/kW, which is a charges in the north, particularly in Scotland where result of the charging methodology moving from peak tariffs increased by £1-6/kW. Additionally, using net to gross demand, and total recoverable tariffs account for the changes from CMP268 revenue having decreased. The biggest shifts Recognition of Sharing by Conventional Carbon were in Northern and Southern Scotland Plant of Not-Shared Year Round Circuits, which (-£9.51/kW and -£8.92/kW respectively) because of means that the year-round not-shared element of their larger volumes of embedded generation. the wider tariff is also multiplied by the annual load The Embedded Export Tariff is a new feature this factor, making the residual less negative. year as a result of CMP264/265 and represents The generation residual tariff has increased by the revenue for the embedded export volume £0.94/MWh to -£2.34/MWh. The small generator produced during triad periods. It is low in Southern discount for eligible generation in Scotland is set Scotland (£10.40/kW) and highest in London to be £11.08/kW (the calculation also changing with (£39.92/kW), averaging £29.15/kW. This will see the move to gross charging). £190mn paid to embedded generators, and hence needs to be recovered through demand tariffs. National Grid acknowledged that, in addition to Figure 1: TNUoS demand tariffs 2018-19 CMP264/265 and CMP268 having come into effect, several modifications that could impact 2018-19 tariffs were awaiting decision. It said it would publish revised five-year TNUoS in November, with draft 2018-19 tariffs to follow in December, and be finalised in January. The impacts of CMP264/265 are clearly seen in this forecast, most particularly in Scotland. The contrast with distribution charging where tariffs have to be set two years in advance is notable and perplexing given the need for generators to take a firm view of all material costs in the annual Capacity Market auctions.

Source: National Grid National Grid

On 31 October Ofgem published details on the processing periods for key events in the new switching arrangements. Specifically, the document presents the end-to-end (E2E) solution on those Central Switching Service (CSS) system transactions that must be undertaken in real time to allow sufficient time for gaining suppliers to prepare for the hand-over of smart meters. It is intended to be used alongside the Switching Design Repository, which details system dependencies in full. Ofgem confirmed that the CSS will be designed and built to be capable of supporting next-day switching, and that same-day switching is likely in time. But it also concluded that switches of traditional prepayment meters cannot be completed in these shorter timeframes, due to the need for new pre-pay devices, such as top-up cards, to be sent in the post. The process for switching a traditional credit meter is presented in detail as it is currently the most common scenario. The CSS will link in real time with the Electricity Central Online Enquiry Service (ECOES) and Data Enquiry Service (DES), which will ensure consistency of information across the Central Data Services. This means that, when a switch is in progress, Price Comparison Websites and all other users will be able to see the pending switch. The current Metering Point Registration System (MPRS) overnight batch update timetable is different from that of UK Link, so Ofgem has concluded that they should be aligned to enable consistency for dual-fuel switches. The UK Link schedule currently spreads the updates across the day more evenly and allows for a later cut-off time each day, so was considered preferable. Gate closure – when a switch becomes irrevocable – is currently assumed to be 17:00 on the day preceding the Supply Start Date (SSD). A later gate closure will be considered as part of subsequent work. Ofgem welcomes comments on this E2E process by 23 November. Ofgem

The GB gas distribution networks (GDNs) published their indicative gas transportation charges on 31 October and 1 November for the charging period beginning on 1 April 2018. Totalled allowed revenue for Northern Gas Networks is forecast to reduce by 0.3%, while average exit capacity prices are expected to decrease by 7.4%. For Cadent’s networks, allowed revenue will increase by 3.9% for the East of England, 3.5% for London, 4.2% for the North West and 5.5% for the West Midlands. This translates to changes to the indicative average transportation price for 2018-19 in these regions of +4.0%, +3.5%, +4.2% and +5.1%, respectively. Wales and West Utilities has forecast an average increase in transportation prices of 1.6%. The equivalent price increase forecasts for Southern and Scotland Gas Networks are 6.7% and 5.9%, respectively. The final charges, due to be published on 1 February 2018, may differ from projections due to uncertainties in the final determination of the adjustment required to base revenue for 2018-19 through the Annual Iteration Process, inflation and the level of future supply point capacity and numbers. Additionally, whether the indicative charges reflect any claim relating to a Last Resort Supply Payment (LRSP) is unclear. On the LRSP, Ofgem expects to come to a decision before January 2018, enabling networks to recover the costs through the 2018-19 final charges. Joint Office

On 1 November, Ofgem issued its decision to approve Northern Powergrid’s request for a derogation to allow it to correct a logic error in the Extra High Voltage Distribution Charging Methodology (EDCM) with regards to customers connected to independent Distribution Network Operators (iDNOs). Northern Powergrid had submitted its request on 13 October, explaining that two prospective customers are expected to connect to an iDNO’s network at 132kV, which will itself be connected to the Northern Power

(Yorkshire) distribution system at 132kV from November 2017. This would therefore be subject to tariffs set in accordance with the EDCM in what the regulator recognised as an illogical double-charging outcome. The iDNO would be charged for the same assets twice, firstly, on a sole use basis where the two customers between them are attributed the full cost of the assets, and secondly, on a shared basis where the two customers share the cost of these assets among the wider customer base. Additionally, Northern Powergrid raised a Distribution Connection and Use of System Agreement (DCUSA) change proposal (CP), DCP305 LDNO Boundary Level Definitions in the EDCM, to put in place an enduring solution so that the double charging will not occur in an equivalent circumstance. Ofgem clarified that Northern Powergrid may price outside of the EDCM with immediate effect until the regulator either decides to approve or reject DCP305. A consultation will be issued on DCP305 over the coming weeks, but the earliest feasible implementation date is expected to be 1 April 2020. DNOs are encouraged to contact Ofgem if they anticipate requiring a derogation to avoid such double charging. Ofgem

Nord Pool Spot has raised a BSC proposal that seeks to exclude interconnectors from paying the BSC Charges. Currently, Elexon’s costs and the contracted costs of BSC Agents are paid for by BSC Parties in proportion to the volume of energy they generate, supply or trade. Interconnectors are liable for BSC costs equivalent to the market share of the export and import registered for the Interconnector BM Units. The proposer argued that the current arrangements are not in line with the European Third Package of energy legislation, which classifies interconnectors as transmission infrastructure. It said that applying BSC charges to cross-border flows creates a differential between those trades that facilitate competition within a national market and pan European trades that facilitate competition across a single European electricity market. This “distortion” compromises efficient trading between GB and other Member States. Nord Pool Spot noted that this issue has resulted in modification in other areas, for example interconnectors do not now pay balancing services use of system charges. If implemented, the costs no longer being borne by interconnectors would need to be reallocated to other BSC Parties. The proposal will initially be considered by the BSC Panel on 9 November. Elexon

ENTSO-E issued a consultation on 31 October on the transmission system operators’ (TSOs’) proposal for key organisational requirements, roles and responsibilities (KORRR) in relation to data exchange for the Guideline on electricity transmission system operation (SO GL). The SO GL has several aims, including coordinating cross-border operational security requirements, operational planning and load frequency control and reserves. This requires exchange of data and the TSOs are required to jointly agree, by six months after entry into force of the SO GL, how organisational arrangements will support this, in terms of how the exchange of data will take place and who will define the details of that exchange. The data exchange organisational arrangements relate to obligations including: for TSOs to communicate to all neighbouring TSOs any changes in protection settings, thermal limits and technical capacities at the interconnectors between their control areas; obligations on distribution system operators (DSOs) directly connected to the TSO of specific changes in data and information; and the detailed content of data, including the main principles, type of data, communication means, formal and standards to be applied, as well as timings and responsibilities. Responses are requested by 1 December. Under the preliminary timetable outlined, the KORRR approach will then be delivered by ENTSO-E in January, and approved by National Regulatory Authorities in July. ENTSO-E

Jacob Briggs, Analyst, [email protected]

SSE and Innogy announced on 8 November that energy and services business and the proposed they are to pursue a merger of part of their GB merger with npower will enable both entities to operations, creating a major new independent focus more acutely on pursuing their own supply and services company. dedicated strategies, and will ultimately better serve customers, employees and other The move is intended to deliver enhanced value stakeholders.” by creating an efficient new independent energy supply business in GB and a new market model Peter Terium, CEO of innogy SE, said: “This is a combining the “resources and experience of two logical step in our strategy to review our market established players” with the “focus and agility of engagements if we aren’t able to reach a leading an independent supplier.” position in them. We have made great progress in restructuring npower over the past two years and The transaction will be implemented by SSE have improved our performance considerably. demerging SSE Retail by declaring a dividend in However, when we look at the competitive specie (i.e. in a form other than cash) to SSE landscape and the uncertain political environment shareholders or by a repayment of capital. In either for energy retailers in Great Britain, it is clear that case, this would be implemented by the transfer of npower would be better placed to offer value to SSE Retail to the Combined Retail Company and our customers and shareholders as part of a new the issue of shares in the Combined Retail company with the ability to succeed in the face of Company to SSE shareholders on a pro-rata basis. the challenges that lie ahead.” Innogy will then contribute npower to the It is currently expected that the transaction will be Combined Retail Company in consideration for the completed by Q4 2018 or Q1 2019. innogy has issue of shares in the Combined Retail Company to committed to seek the approval of innogy's innogy. Upon completion of the Transaction, the supervisory board by 31 December 2017, and SSE Combined Retail Company will have an has committed to seek the approval of its appropriate level of debt, commensurate with an shareholders by 31 July 2018. investment grade credit rating. City analysts have been divided on whether the The proportion of the Combined Retail Company deal will successfully pass the scrutiny of the to be held by existing shareholders of SSE on Competition and Markets Authority. Stephen Hunt completion of the Transaction will be 65.6% and at Barclays believes there is “a good chance” the the proportion to be held by innogy will be 34.4%. merger will be allowed, but Deepa Venkateswaran The Combined Retail Company will apply for a at Bernstein believed approval by the Competition premium listing on the main market of the London and Markets Authority is “by no means a done Stock Exchange deal”. The estimated size of the two businesses to be combined is: This is a significant moment for the energy supply market and the move seems on paper • npower: at 31 December 2016, value of to make sense given the strategies of both segment gross assets of £2,128mn (net of parent companies. Attention has already goodwill of £1,773mn) and operating loss turned to the competition implications of the attributable to the business of £89.5m, and creation of a supplier on the scale of British • SSE Retail: at 31 March 2017, estimated value of Gas. But concerns have already been raised gross assets of £819mn (excludes cash) and over the ability to successfully integrate estimated profit before tax attributable to the customers and systems. See Peter Atherton’s business of £267mn (excludes historical inter- thoughts on the move in this week’s Nutwood company debt interest). (p.18). A fuller comment from us about the Alistair Phillips-Davies, Chief Executive of SSE, shifting retail market dynamic will follow next said: “The scale of change in the energy market issue. means we believe a separation of our household SSE

Joe Camish, Analyst, [email protected]

National Grid announced that eight balancing Figure 1: Products being removed from active procurement services products will be removed from active procurement in a recent update to their Product Summary of Rationale Flexibility Workstream. Enhanced On 30 October, National Grid published a letter Frequency The requirement for faster acting setting out the conclusions of National Grid Response frequency response will be met Electricity Transmission’s (NGET) review of the through the improved frequency Rapid current array of balancing services and products, a response product suite process known as Rationalisation. The review Frequency additionally focused upon the development of the Response Firm Frequency Response (FFR) tendered market. FFR Bridging During the review process National Grid analysed Frequency all active products to assess whether they met The existing FFR market is being Control by operability requirements and if there are more developed to include most of the Demand active alternative routes to market. As a result, if a characteristics of the product product was deemed to no longer be needed or Management alternatives were found then the System Operator (SO) will no longer procure any more volume of STOR Runaway these products. The products will also be removed The requirement will be met Enhanced from the list of actively procured products. through the redesign of the Optional STOR Eight products met the removal requirements, with existing STOR market these highlighted in Figure 1. Max Gen The product is not used as the Any existing contracts will not be terminated requirement is met through immediately. Discussions with impacted parties reserve products, which are more Fast Start has already begun in order to identify alternative economic and versatile routes to market for their assets. Following the first EFR battery becoming On the same day National Grid also published operational, the volume of response that will be several changes to the FFR process. These were provided from units with an EFR contract will be contained in its Firm Frequency Repose Market included in the amount already procured for Information for Dec-17 update. The main changes dynamic response, on a one-for-one basis. impact tendering, minimum dynamic requirement It was also announced that there would be a small and enhanced frequency response (EFR). reduction in the amount of minimum dynamic Providers fed back to National Grid that the current response requirement by 50MW for both day and monthly tender process does not provide enough over-night volumes as National Grid believe they time to understand and analyse results before don’t need as much of this product to manage the needing to tender into the next round. system. National Grid will continue to tender on a monthly While these changes are unquestionably basis. However, it will now alternate on a monthly sensible, the fluid approach is difficult when basis between procuring for short-term many investments are being made based on requirement (month ahead only) and procuring for entering the frequency response market. the long-term requirement (from month ahead to While the changes may alleviate some of the 30 months out). concern for National Grid, this will only have a To give participants time to prepare, National Grid limited impact while the mandatory and are giving notice that the first short-term tender will tendered frequency response markets remain take place in December 2017 with January as the separated from each other. delivery month. National Grid

James Cunningham, Writer, [email protected] The latest switching figures from Energy UK have from the 3% recorded in October 2014. This figure shown that there were 612,704 electricity peaked at 21% in January 2017 switches during October, the second highest If switching rates are examined on a longer monthly figure on record. timescale, it can also be plainly seen that other This was just the second time that Energy UK has major industry changes and developments have found over 600,000 switches in a single month, had noticeable effects. Perhaps the clearest and the first since November 2013 when 615,363 example of this was when suppliers took the switches were recorded. This took the total of decision to cease doorstep selling in 2011-12, switchers to over 4.5mn for the year to date as a which coincided with the number of electricity whole. switches falling from 1,189,000 in Q3 2011 to 746,000 in Q1 2012. Of all switches a third (32%) of those changing providers moved to small and mid-tier suppliers. This was also seen in October and November 2013 This equates to a net gain for small and medium when the Big Six suppliers increased their prices, suppliers of 193,424 customers. Four in 10 and the number of switches subsequently switches (41%) were from larger to small and mid- increased from 321,890 to 615,363 in the space of tier suppliers; one in 10 (10%) were from small and a month mid-tier to larger suppliers; a third (33%) were between larger suppliers and 15% were between The effects of the latest British Gas price rise small and mid-tier suppliers. are feeding clearly through. The figures show that when the Big Six raise prices they are Energy UK also noted that recent research has seeing material customer losses and that found that nine in 10 switchers were happy with these losses are accelerating. The gains by the process of changing suppliers, and that as a the independents as a class was also the result of its Energy Switch Guarantee more customers are confident when looking to change. highest net gain on record. While the total number and breakdown of switches But the most interesting thing is the higher has varied on a monthly and seasonal basis, there level of engagement more generally. In fact has been a clear overall increase since 2014 (as this is the 33rd consecutive month where total shown by Figure 1). electricity switches have risen year-on-year. Over this period there has also been a notable The current level is 19.8% on an annualised increase in the rate of churn between small and basis. medium suppliers. Energy UK data shows that last Energy UK month 14% of switches were within this group, up

Figure 1: Total number of electricity switches

Source: Energy UK

Centrica has acquired the demand-side response (DSR) aggregator REstore NV for £62mn. REstore manages 1.7GW of peak load from a portfolio of Industrial and Commercial customers in Belgium, the UK, France and Germany. In its announcement on 3 November, Centrica said that DSR aggregation will become a central part of its customer offering and is expected to represent a significant opportunity for growth as global electricity markets evolve. The business will now form part of Centrica’s international Distributed Energy & Power unit, which provides energy insight, asset optimisation and energy solutions to large energy users. Centrica added that the acquisition of REstore brings key capabilities in asset optimisation and further expands its presence in European markets. Centrica

Vattenfall has expanded its UK business with a new unit that will own and operate electricity networks in the UK. Announced on 3 November, Vattenfall Networks is set to commence operations in 2018 after Ofgem granted it an operating licence on 1 November. The company said that the move marked a “first step” in the company establishing “smart, independent electrical distribution network operations in Great Britain.” Vattenfall Networks will aim to grow organically as an Independent Distribution Network Operator (IDNO), with the new unit set to both build and operate new connections to the existing network in new residential, retail or industrial areas. The new unit is said to be “unbundled” from, and independent of, Vattenfall’s existing UK sales and generation business. Magnus Hall, Vattenfall’s President and CEO, said: “This is in line with our overall strategy to become fossil free in a generation and supporting our customers in reducing their carbon footprint.” Vattenfall

Aggregate Industries and Open Energi have launched a new platform that uses artificial intelligence to connect, aggregate and optimise distributed energy assets to help businesses reduce their energy costs. The Dynamic Demand 2.0 system allows businesses to stack demand flexibility value streams and determines which assets to use and when to maximise savings without impacting performance. This will allow businesses to optimise their consumption by avoiding peak price periods and improving operational efficiency. David Hill, Commercial Director at Open Energi, explained: “It is now possible to measure and monitor machine behaviour at such a granular level that we can identify invisible flexibility in the way we consume power. Aggregate Industries

Barclays announced on 6 November that it has issued a 0.625% €500mn green bond, the first green bond issued by a UK bank, using UK assets. The bank said the offer was well-received and attracted a final order book of €1.85bn. The proceeds will be used to finance and refinance Barclays residential mortgages on English and Welsh properties that are in the top 15% least carbon-intensive buildings in each country, based on energy efficiency. Barclays

SSE and Innogy have announced the proposed npower lost money on both retail electricity and merger of their UK supply businesses (see this gas in 2016. npower has also been shedding issue, p14). customers as it has struggled to implement new back-office systems and react to the rise of the SSE will contribute its UK household retail independent suppliers. customers and its energy-related services business and Innogy its Npower operations which For both companies another factor will includes both domestic and business customers. undoubtedly have been the UK government’s The combined company (NewCo) will have 11.5mn decision to legislate for price caps on Standard customer accounts making it the second largest Variable Tariffs (SVTs). A government-imposed energy supplier in the UK. NewCo will be listed on price cap on such a large segment of the market the main market of the London Stock Exchange. will likely lead to tighter margins for suppliers. The natural reaction to that, in what is a low margin/ SSE will own 65.6% of NewCo with Innogy owning high volume business, is to seek scale and the the remaining 34.4%. SSE intends to pass on its economies of scale. shares in NewCo directly to its shareholders via either a dividend in specie or a repayment of So, if the logic of the deal is pretty clear, why the capital. Innogy on the other hand has undertaken muted reaction in SSE’s and Innogy’s share prices? to retain its shareholding in NewCo for at least six (see Figure 1). months following the transaction. The deal, subject The first reason is that completion of the deal is to regulatory approvals, is expected to close uncertain (due to regulatory hurdles) and in any sometime between Q4 2018 or Q1 2019. case is at least a year away. For SSE there is also When news of the deal first broke last Tuesday the issue of its dividend. SSE is to de-merge its there was a positive share price reaction for both shareholding in NewCo and will not therefore companies with SSE’s shares up nearly 4% and receive any cash for its stake, but will lose the Innogy’s nearly 3%. However, within 24 hours profits from supply that it currently receives. these gains had been largely given up - albeit Jefferies estimates the effect will be to dilute EPS against the background of weak market by around 17% in 2019, taking dividend cover to conditions. around 1x. It is possible therefore that SSE will seek The business rationale for SSE is pretty clear. to rebase its dividend (i.e. reduce it) to take Under the leadership of Alistair Phillips-Davies, account of the dilution effect. SSE has increasingly moved away from The other issue for the shareholders of both competitive businesses towards regulated and companies is how to value NewCo? No other quasi-regulated assets. In particular they have standalone supply business of this size exists been moving capital out of generation exposed to the wholesale power market and into contracted renewables and regulated networks. SSE believes Figure 1: Innogy and SSE share price this reduces its risk profile and underpins its all- important dividend pay-out capacity. Therefore, exiting energy supply in the UK (although not in the Republic of Ireland) can be seen as the logical next step in its strategy. Whilst SSE’s UK supply operations have been profitable in recent years, that profitability has to some extent been achieved by SSE’s willingness to lose customers (c.1mn since 2015). SSE has maintained margins by sacrificing market share.

For Innogy the rationale is even clearer. npower has been significantly loss making since 2015. Source: FT Uniquely amongst the Big Six energy suppliers

anywhere in the world, so there are no The real winners, at least in the short term, is likely comparatives. There is also considerable to be the other suppliers including Centrica. SSE uncertainty on how successfully the two and npower will be distracted throughout 2018 in operations can be integrated. trying to get the merger approved. Then if it is approved NewCo will likely take all of 2019 and This sector has a terrible track record of probably much of 2020 integrating systems. implementing new billing / CRM systems. SSE and npower will need to integrate two systems or Eventually NewCo may emerge as a strong transfer millions of customers onto a scaled-up number two competitor to Centrica, but equally the version one of their existing systems. Shareholders damage done by two to three years of merger and will be understandably nervous that this can be integration uncertainty may produce a market achieved successfully. weakling. Another issue that shareholders of SSE and Innogy Cornwall Insight Associate Peter Atherton is a will need more information on is the balance sheet well-known equity analyst having headed utility of NewCo. research at several eminent City institutions, most recently Jefferies, and is a respected NewCo naturally will have an energy trading book energy commentator. running into the billions. NewCo will not of course have the benefit of being part of a vertically Join energy industry leaders and experts, integrated company, so what capital will it need to including our own Gareth Miller, Nigel Cornwall fund its trading book – or will the ex-parents and Robert Buckley, at our retail conference on provide ongoing energy trading services? 22 November to understand how the conflicting pressures from technology, innovation and So, whilst the strategic rationale for SSE and politics are reshaping the energy supply market. Innogy for this deal seems reasonable, shareholders will struggle to value NewCo and will We will also take a closer look at how the have some concern over the dilution effect on important debate around vulnerability and SSE’s dividend. engagement is shaping up.

All near-term gas contracts rose last week. The day-ahead gas contract gained 7.7% to 52.8p/th, a nine-month high, with colder temperatures boosting demand for heating. Additionally, nuclear outages increased gas demand for power generation, and continued high exports to Europe further lifted near-term prices. The month-ahead (December) contract climbed 5.1% to 53.9p/th, up from 51.2p/th the previous week. It also reached 54.6p/th on 9 November, the highest level on our record for the contract going back to August this year. The summer 18 contract rose 4.7% to 44.7p/th and the winter 18 contract grew 3.7% to 51.9p/th. On average, seasonal contracts rose by 3.9%.

Baseload power contracts increased last week. The day-ahead contract leapt 5.1% to £52.0/MWh. This was due to nuclear outages across Great Britain and France, as well as rising coal and gas prices. However, these gains were capped by increased wind generation. The month-ahead (December) contract expanded 3.2% to £53.3/MWh. The contract is now 13.0% above its level last month (£46.0/MWh). Summer 18 power rose 3.0% to £44.5/MWh, while winter 18 power boosted 2.3% to £49.6/MWh. On average, seasonal contracts rose 2.4% last week.

Brent crude oil prices strengthened 2.6% to average $62.4/bl, up from $60.8/bl the previous week. On 7 November prices reached a 28-month high of $64.1/bl, amid rising tensions between Saudi Arabia and Iran concerning the recent conflicts in Yemen. API 2 coal prices experienced an uptick of 0.1% to average $86.6/t. On 10 November API 2 coal reached $88.9/t, a fresh four-year high, with news of strike action across South African coal mines. EU ETS carbon prices climbed 2.5% to average €7.6/t, with prices boosted by strong European coal demand. On 6 November prices increased to €7.9/t, a fresh 22-month high.